When monthly repayments on credit card debt, overdrafts, hire purchase and small loans start to get out-of-hand, consolidating debt may provide the answer. It can be difficult to decide whether a secured loan or unsecured debt consolidation loan is better for achieving this objective because each has its relative merits, but a lot will depend upon credit rating, term and the amount borrowed.
Does a Secured Loan or Unsecured Debt Consolidation Loan Reduce Monthly Repayments?
Consolidating debt over a longer term is only possible with a secured loan. The majority of unsecured loans have a maximum term of 5 years due to the risk of a borrower defaulting on the agreement. A secured loan allows a homeowner to spread the cost of debt over a period of up to and including 25 years. This helps to significantly reduce monthly repayments, leaving additional money available to pay other household bills.
- An unsecured debt consolidation loan for £15,000 at 9.5% over 5 years results in monthly repayments of £312.18 pcm.
- A secured loan for £15,000 at 9.5% over 10 years results in monthly repayments of £190.91 pcm.
As can be ascertained from the above example, monthly repayments on a secured loan are £121.27 pcm less than on an unsecured loan. If the term was increased to 25 years, a homeowner would save as much as £181.13 pcm.
Cumulative Interest Is Normally Higher on a Secured Loan
A secured loan may help reduce monthly repayments, but the longer term increases the cumulative interest paid. The reduced term of an unsecured loan means that a borrower will pay less interest.
- An unsecured debt consolidation loan for £15,000 at 9.5% over 5 years means that £3,901.68 of interest will be paid.
- A secured loan for £15,000 at 9.5% over 10 years means that £8,291.56 of interest will be paid.
A total of £4,389.88 more interest will be paid on a secured loan relative to an unsecured loan.
Turning Unsecured Debt into a Secured Loan
Credit card debt and personal overdrafts are sources of unsecured debt. This means that, in the event of the borrower defaulting on the terms of the agreement, the creditor has no collateral. This is the principle advantage of taking out an unsecured debt consolidation loan. A debtor is free to pursue a debt solution, such as a Debt Management Plan (DMP) or an Individual Voluntary Arrangement (IVA). Defaulting on a secured loan means that the creditor could repossess the property and sell it on the open market to recover their money.
Bad Credit Unsecured Debt Consolidation Loans
Consolidating debt with an unsecured loan is rarely possible unless the amount of debt is relatively small. Missed and late payments on past and existing credit agreements show on a credit report for a period of 6 years. Few lenders will be prepared to lend money and those that do will charge a high APR. This means that a secured loan will be the only way to consolidate debt. It may be better to leave the existing credit agreement in-place or to pursue a debt solution.
Individuals with a good credit rating will find that an unsecured debt consolidation loan is an excellent way of simplifying family finances and making monthly repayments more affordable. It is possible to put high APR credit card debt, hire purchase and overdrafts under one roof and make a single, affordable monthly repayment. Think carefully before turning unsecured debt into a secured loan.
Disclaimer: This article in no way attempts to give legal or tax advice. One should consult a licensed attorney, tax advisor, or other qualified professional.
Asa Ghaffar - Asa has over 10 years of practical experience in loan approval, secured lending, bad credit repair, stock trading and debt management.
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